2022: will China drive the world into stagflation?

This column was first published in L’Opinion on 5th january 2022

An extended slowdown of the Chinese economy would obviously impact on the whole world. But China could now also contribute to world stagflation in the 2020s.

The Chinese leaders are undoubtedly only too happy to say goodbye to 2021, an annus horribilis that combined the lack of an effective anti-Covid vaccine, the bursting of the real estate bubble, a stock exchange crash, a sluggish birth rate, and the realization that decarbonization is taking longer and proving more costly than would be wished.

Last summer, the digital sectors that were growing too quickly were brought back under the government’s thumb, and this, together with the closing of frontiers, expected to last until 2023 and beyond, has caused people to ask the same question the world over: after a relative opening up between 2000 and 2015, is China now going to close up until, say, 2030?

What happens in 2022 will be the determining factor in answering this question. The thing is to know whether, from an economic standpoint, China will escape the notorious “middle-income trap”, at $10,000 of GNP per inhabitant. Or, on the other hand, after the controls introduced in 2021, will China choose the path of an economic rebound in 2022? There are three basic questions that need to be asked.

First of all, will China be able to stop the real estate crisis triggered by the Evergrande Group debacle from spreading? The construction sector accounts for almost 30% of GNP and should benefit from a new positive leverage of about 5 points from the central bank (the PBOC), after the brutal 10-point deleveraging in 2021 — the first time such a measure had been taken anywhere in the world.

Secondly, will Chinese industry continue to improve its technology against a background of frontiers that will remain closed for some time and regulations on data transfer that are still uncertain? Although China won the exports battle hands down in 2021, obtaining an astonishing five points of the global market, Chinese industry could well suffer from Western customers’ wanting to reduce their dependency on China.

China accounts for almost a third of global growth, and an extended slow-down of the Chinese economy would obviously impact on the whole world.

Digitalization. Thirdly, will digitalization of the services sector — which has always been the weakest link in the Chinese economy — get back the positive dynamic that it lost when it came to a sudden halt in 2021? Will we see an increase in new digital business models — which appeared during the Covid crisis and which alone made China the leader of emerging nations — in sectors like finance and healthcare?

The answers to these three crucial questions will have consequences that go far beyond the frontiers of China. China accounts for almost a third of global growth, and an extended slow-down of the Chinese economy would obviously impact on the whole world. This is particularly true since we are coming to realize that global inflationist pressures will last far longer than our central banks would have us believe.

For the last 20 years, China has been an effective deflationary force for Western businesses, but now it could well contribute to global stagflation in the 2020s — a reminder of the 1970s and a dangerous cocktail consisting in a slowdown in growth and cost inflation. There are many things about 2022 that are uncertain, but one thing is sure: more than ever, we must keep a close watch on how China evolves.